Phoenix companies

What is a phoenix company?

A phoenix company is where the assets of one Limited Company are moved to another legal entity. Often some or all of the directors remain the same and in some cases, the new company has the same or a similar name to the failed business. The phoenix company will operate in the same sphere as its predecessor.

Are phoenix companies legal?

It is perfectly legal to form a new company from the remnants of a failed company. A director of a failed company can become a director of a new company unless he or she:

is subject to a disqualification order or undertaking, or

is personally adjudged bankrupt, or

is subject to a bankruptcy restrictions order or undertaking.

Why set up a phoenix company?

Not all legitimate businesses succeed at the first attempt, according to the Small Business Service, one in three businesses close within three years. Business can fail for any number of reasons and there are occasions when honest individuals find they can no longer trade out of their difficulties.

In these cases, the phoenix company arrangement allows a business to start again and for the profitable elements of the failed business to survive, offering some continuity for both suppliers and employees.

Why do phoenix companies have a bad reputation?

In the past, some directors have deliberately forced their companies into insolvency in order to buy back the assets at a reduced price while absolving their responsibility for the liabilities. The Insolvency Act 1986 has made it far more difficult for directors to do this, with stricter rules over the insolvency process and who can become a liquidator. The liquidator must ensure that the best price is obtained for a business and its assets.

In a minority of cases, directors abuse the phoenix company arrangement by transferring the assets of a failing business at less than market value before insolvency, thereby reducing the funds available to creditors when the original company becomes insolvent.

Should I deal with a phoenix company?

The majority of phoenix companies are perfectly legitimate businesses, but as with all new customers, you should carefully vet them first and in particular follow up trade references and check the directors themselves. Find out why the previous business failed and ensure that the directors are not serial abusers of the phoenix company arrangement. You can find out information on company directors from Companies House or from a status report from a credit ratings agency. Only extend trade credit if you are confident that you will be paid on time.

What can be done about those who abuse the system?

The Insolvency Act 1986 gives the liquidator a number of powers to stop those who are abusing the system. These include allowing a liquidator to take recovery action where the failed company has entered into a sale at a lower than market value at a time when the company was unable to pay its debts. In addition, the Act makes it an offence for a director of a company which has gone into insolvent liquidation to be a director of a company with the same or a similar name, or concerned in its management, without leave of the court within 5 years after the winding up.

Under the 1986 Company Directors Disqualification Act (CDDA), the courts can disqualify directors whose companies have failed as a direct result of their misconduct, for periods up to 15 years. This will disqualify the person from being a director of a company; acting as receiver of a company's property and being concerned or taking part in the promotion, formation or management of a company. It also disqualifies them from being a member of a limited liability partnership or taking part in the promotion, formation or management of such a partnership.

It is important to note that the term "director" applies to anyone in the position of a director of a company, whether they are called a director or not. It includes those who give instructions on which the directors or a company are accustomed to act.

Similarly, when a bankruptcy order has been made against an individual, he or she must get the court's permission before becoming a member of a limited liability partnership or acting as a director of, or directly or indirectly taking part in or being concerned in the promotion, formation or management of a company for the duration of the order. For the duration of the order, the person is known as an undischarged bankrupt.

Legislation introduced in April 2004 gave the Official Receiver power to apply to the court for a bankruptcy restrictions order against any bankrupt who he believed to have been dishonest or in some other way to blame for his position. These orders can last for between 2 and 15 years and have the effect of continuing to apply the restrictions of bankruptcy after discharge.

How can I help this process?

There are two ways suppliers can help to ensure that unscrupulous directors are unable to set up new companies.

If you are a creditor to a business which is undergoing insolvency, it is essential that you help the Official Receiver / Insolvency Practitioner to understand the causes of failure. They have a duty to investigate the affairs of companies in compulsory liquidation and report evidence of criminal offences to a prosecuting agency. If you believe that the company is withholding information about its assets, or if you have information about the conduct of the company, you should write to the Official Receiver / Insolvency Practitioner giving the relevant facts.

If you suspect that an individual is acting in breach of a disqualification or bankruptcy order you should report it to the Insolvency Service. It is a criminal offence to contravene a disqualification order or undertaking, a bankruptcy order or a bankruptcy restrictions order or undertaking. It is also a criminal offence for another person to assist a disqualified person to act in this way.

An Enforcement Questionnaire can be obtained from www.insolvency.gov.uk. A person who contravenes the order or undertaking could become personally liable for any debts of the company which it incurs while the order or undertaking is contravened. Anybody who carries out that person's instructions may also be personally liable. To find out if a director is disqualified, you can search the disqualified directors register at Companies House.